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The majority of businesses, big or small, have started with a loan. However, knowing what type of loan and where to find the best deal can be tricky, especially in the beginning stages of business growth.
Small Business Administration loans are often suggested for small businesses or start-ups. SBA loans are partially backed by the government, range in size and can be used for most business purposes.
When acquiring a loan, an SBA loan is “less about collateral and more about cash flow — what can the business afford, not how much is available in collateral,” said Itzel Meador, director of SBA lending at First Security Bank. “Regardless of the net worth of the guarantor, if the loan can illustrate repayment ability then it is OK if the guarantor doesn’t have a lot of personal net worth.”
Non-SBA loans, according to Meador, care more about collateral and the strength of guarantors.
Other perks of an SBA-backed loan include the ability to combine project costs, lower down payments and longer, non-ballooning term notes. Plus, SBA loans are startup-friendly.
Credit History and Debt Management
Personal credit history has an impact on whether your business can get a loan.
“Personal credit is very important because it’s an indication, potentially, of how the business will be managed,” said Randy Williamson, a senior SBA lender at Arkansas Federal Credit Union. “For example, if you’re not paying your personal bills, chances are you’re not going to pay the business’s bills on time.”
Banks see credit history and debt walking hand-in-hand with business management when considering giving a loan. High rates of debt can even bleed into how a business can afford necessities like employees.
“If you personally have a lot of debt and don’t pay your creditors on time, then there is a high chance you will do the same with business debt,” Meador said. “Additionally, if the client has a lot of personal debt and the business can’t afford to pay back a high salary, then that could create more issues for the individual.”
Debt management comes into play for lenders when looking at debt service coverage ratios.
“The SBA’s minimum debt service coverage ratio is 1.15 to $1,” said Williamson. “What that means is for every $1 of debt that you have, they want you to have a net income of $1.15. For every dollar you make, we don’t want it to go straight to debt — we want to see a cushion.”
According to Williamson, some financial institutions may have up to a 1.2 to 1.5 debt service coverage ratio.
But there’s no need for a startup to worry quite yet.
“The interesting thing about SBA loans, especially as it pertains to startups, is they don’t mandate that you have a 1.15 the first year,” he said. “In fact, they don’t even mandate that your business makes money the first year because it’s a startup. It’s getting going and getting launched.”
